September 19, 2006
Securities and Exchange Commission
Comments regarding amendments to Regulation SHO
The following comments are offered with regards to your consideration of amendments regarding Regulation SHO.
Over the last few years, there has been an outspoken demand for tighter scrutiny and control of short-selling activity. The SECs actions in response, to tighten the circumstances leading to large, chronic and persistent fails-to-deliver, could serve to increase confidence in the markets, while closing loopholes that could temporarily distort certain markets.
These actions may have the beneficial effect of maintaining the public's confidence in the integrity of the system. However, at a certain point, there is a declining benefit to continuing to react to a vocal and organized campaign to blame all market shortcomings on the effects of short-selling, especially when these sweeping claims are marked by a persistent absence of data to support them.
While periodically unpopular in the public eye, legitimate short-selling provides critically important check-and-balance to market over-enthusiasm, and provides liquidity to dampen excessive volatility.
Among the options now presented for your further consideration, some would have a crippling effect on legitimate short-selling activity. You have an obligation to prove, with strong empirical data, the existence of problems before you adopt solutions fraught with further flaws. By incepting further changes absent such proof, the SEC risks exposing the market to serious abuses at the hands of the law of unintended consequences.
The access to markets for legitimate short-selling activity is already obstacle-ridden and grossly unfair. Access to stock available for borrow for legitimate short-selling purposes is already unfairly restricted in many ways. Inventory is balkanized, and borrow desks for major firms have every reason to exercise favoritism in allocation of available borrows, to the public's disadvantage.
Replacing the affirmative determination locate requirement with an affirmative borrow is one such idea that will render timely short-selling virtually impossible – rendering it incapable of exerting a market balancing force.
Encumbering this already obstacle-strewn borrow system with further regulation will specifically serve to eliminate legitimate short-selling from the marketplace, paving the way for new waves of purposeful stock promotion and other market excesses designed to prey upon the public at the hands of unscrupulous manipulators.
Consider one such glaring unintended consequence already occurring. As currently implemented, Reg SHO's Threshold List provides strict protection for securities which are abjectly delinquent in filings. There are recent examples of securities which are blatant orchestrated pump and dump schemes promoted by offshore and anonymous entities. These issues have demonstrated brief, violent volatility swings, triggered by appearance on the Threshold List. Yet these same companies are so delinquent on filings, it is impossible to ascertain even the most rudimentary information, such as their actual outstanding share count.
There is no rationale for providing explicit regulatory protection to companies which are chronically and/or grossly delinquent with regard to public disclosure. No such intention was expressed in Regulation SHO, yet this is what it achieved.
The SEC needs to consider these issues on their merits, rather than reactively responding to an orchestrated public campaign.
I urge you not to create further unintended consequences by implementing rules lacking a clear rationale founded in empirical data.